UBS Turning Whistleblower in Libor Probe Pressures Rivals

Based on UBS’s disclosures, regulators in Canada have alleged that banks communicated with each other and through brokers to manipulate the Yen Libor rate. Photographer: Gianluca Colla/Bloomberg

Feb. 21 (Bloomberg) -- UBS AG’s decision to become first-confessor as regulators probe the alleged manipulation of
interest rates will ratchet up the risks for other banks that
set the benchmark for $360 trillion of securities worldwide.

The bank is seeking to insulate itself from the biggest
possible fines from the investigation by turning itself in to
regulators before its competitors to gain leniency, lawyers
said. The plan still leaves the Zurich-based lender vulnerable
to lawsuits from clients and raises the potential antitrust
penalties for its competitors.

“It’s a sound tactic and well-trodden path,” said Steven
Francis, a regulatory lawyer at Reynolds Porter Chamberlain in
London. “With competition law, there is a very well-recognized
system of giving first-mover advantage to any cartel member who
blows the whistle on the others.”

UBS, already facing scrutiny of its internal controls after
posting a $2.3 billion loss from unauthorized trading last year,
is trying to shorten the probe against itself by cooperating.
Its disclosure to regulators that employees colluded to rig the
London interbank offered rate is likely to renew calls for
regulators to overhaul the way firms set the rate.

“This is a quaint, insider club which is clearly not fit
for the 21st century,” said Richard Werner, a finance professor
at the University of Southampton, England. “There is no
independent verification of the interest rates reported by the
banks, which is a big problem. This affects the whole economy:
mortgages, derivatives contracts across the world.”

First Disclosure

By making the first disclosure to regulators, the Zurich-based lender will make it harder for competitors including
JPMorgan Chase & Co. and Citigroup Inc. to claim similar
protection. UBS’s competitors could face higher penalties for
not coming forward earlier, Francis said.

Brian Marchiony, a London-based JPMorgan spokesman, and
Jeffrey French, a spokesman for Citigroup in London, declined to
comment on the investigations.

The damages, if the probes establish liability, “could be
enormous, depending on how they’re defined,” said Peter
Henning, a law professor at Wayne State University in Detroit.
“It will be a mess evaluating damages, given all the
derivatives contracts and swaps tied to these rates. This won’t
be resolved anytime soon.”

Libor is derived from a survey of banks conducted daily for
the British Bankers’ Association in London. The lenders are
asked how much it would cost them to borrow from one another for
15 different periods, from overnight to one year, in currencies
including dollars, euros, yen and Swiss francs. After a
predetermined number of quotes are excluded, those left are
averaged and published for each currency by the BBA before noon.

Canada Regulators

Based on UBS’s disclosures, regulators in Canada have
alleged that banks communicated with each other and through
brokers to manipulate the Yen Libor rate.

Lenders aren’t supposed to know each other’s submissions
until the rates are released, the Canadian Competition Bureau
said in court filings last year. By doing so, the traders
affected all interest-rate derivatives that use yen Libor as the
basis for their price. In an interest-rate swap, banks make or
lose money depending on the floating interest rate, usually tied
to Libor, the bureau said.

“Libor has always been a lie, because it represents what
banks would pay for funds rather than what they are actually
paying,” said Peter Hahn, a finance professor at London’s Cass
Business School and a former managing director at Citigroup.
“People who have an incentive to make money from mispriced
markets are able to misprice those markets, and that is a
serious control problem.”

‘Fully Transparent’

The BBA is “committed to retaining the reputation and
integrity of BBA Libor,” the London-based lobby group said in a
statement. “It is fully transparent. All of the data inputted
by the contributor banks is publicly available, as is our
methodology.”

UBS disclosed in a July filing it had got conditional
immunity from the U.S. Department of Justice in its probe of
Libor. In February, it said it had received similar immunity
from the Swiss Competition Commission. Spokesman Richard Morton
declined to comment on the lender’s leniency agreements.

The Department of Justice operates a first-in-the-door
policy, leaving other banks unable to claim the same protection.
The leniency deal limits civil claims to actual damages rather
than triple damages, UBS said in its filings. It doesn’t stop
other regulators, such as the Securities & Exchange Commission
and the Commodity Futures Trading Commission, from filing suits.

‘Some Leverage’

Even though other agencies can still sue UBS, the agreement
with the Department of Justice “gives them some leverage with
other parts of the government,” Henning said. The DOJ also
“gives credit to whoever is second to come forward. You can
still get benefits but it becomes more discretionary. The others
are essentially competing to show they’re cooperating the most.
That the probe has expanded is a sign of active cooperation.”

Meanwhile, investors have already filed suits against banks
alleging they manipulated Libor in violation of U.S. antitrust
law. Charles Schwab Corp., the largest independent brokerage by
client assets, sued Bank of America Corp., Citigroup Inc. and
other banks in August, claiming they manipulated Libor from 2007
in violation of U.S. antitrust law.

UBS has also sought immunity from prosecution by Canadian
regulators, three people with knowledge of the inquiry said last
week. Canada’s Competition Bureau only offers immunity to the
first party to alert it to antitrust violations.

‘First In Marker’

The lender, which wasn’t identified in the Competition
Bureau’s lawsuit, was granted a “first in marker” on Jan. 5,
2010, confirmation that it was the first to request immunity and
a guarantee of its place at the front of the queue, according to
court documents filed in the Ontario Superior Court in May.

Over a series of five meetings in April and three in May,
lawyers for UBS gave information to the regulator, including
details of the lender’s own internal probe, the filings show.
Based on the lender’s disclosures, the regulator said HSBC
Holdings Plc, Royal Bank of Scotland Group Plc, Deutsche Bank
AG, JPMorgan, Citigroup, as well as brokers ICAP Plc and RP
Martin Holdings Ltd. colluded to manipulate the Yen Libor rate,
according to the court papers. Not all attempts were successful.

The European Union, which raided UBS in October as part of
its own investigation, hasn’t said it if it will grant immunity.
The EU typically doesn’t publicly disclose which company is
granted immunity until it levies fines in a case.

Lombard Club

Since 2002, the EU has waived fines for the first company
to come clean in a price-fixing cartel. The maximum fine for
members of a cartel under European rules is 10 percent of sales.

European regulators have fined banks before: the European
Commission, the EU’s antitrust regulator, fined eight Austrian
banks a total of 124.3 million euros in 2002 for colluding in
the so-called Lombard Club to fix fees and set interest rates
for savings and loan products.

Britain’s Financial Services Authority is investigating
“significant cross-border allegations in regards to Libor,”
according to Tracey McDermott, the regulator’s acting head of
enforcement. She publicly disclosed the probe for the first time
in a speech in London today.

UBS is cooperating with the FSA’s probe and is likely to
receive the standard 30 percent discount on any financial
penalty for early settlement, said a person with knowledge of
the probe, who declined to be identified because the decision
hasn’t been made public.

“If you’re the first mover, there is a real chance that
the FSA will use its discretion to make the fine lower,”
Francis said. “With the Libor case, it’s clearly so high-profile, you’ve got no chance of escaping a penalty, but every
chance of it being on the lower end of the range.”

So far, only Japanese regulators have punished the lender
over the interest-rate probe. In December, Japan’s Financial
Services Agency ordered the UBS Securities Japan division to
suspend trading in derivatives transactions related to Yen Libor
and Euroyen Tibor from Jan. 10 to 16. The regulator found that
the securities unit had “serious problems” in its internal
controls and ordered it to develop a new compliance program.